Will Roku Go Boom Or Bust In 2020?
May 07, 2020
Lead Tech Analyst
This article was originally published on Forbes on Apr 30, 2020,01:41am EDT
Roku has gained up to 600% in less than 3 years since its IPO despite having many objectors along the way. In light of these sizable gains, Roku has seen five significant drawdowns ranging between 41% to 67%. Therefore, when considering if Roku will go boom or bust this year, I believe it will do both.
When I first began bullish coverage on Roku at $30, the company had a misunderstood business model. At the time I pointed out that Roku was an ad platform first and a hardware player second. At the time, the market was backwards-looking as Roku’s device sales made up 59% of total revenue in the six months leading up to its public offering.
Through 2019, its device sales made up only 34% of its revenue, while the remaining majority came from its platform. What investors initially failed to realize was that the hardware player was a means to its high-yielding ad platform. Roku has an added advantage from the data it has on consumers due to owning the hardware and the many content apps that need access to an OTT device.
With this history, my guess is investors will get Roku’s story wrong again this year as Roku must chose between its top line and bottom line. Covid-19 offers an important opportunity for Roku as OTT usage is skyrocketing and the company must expand globally for long-term growth. (I’ve covered extensively why the domestic market is no longer pertinent in my Netflix coverage).
Often times, growth and earnings are at odds with one another as revenue requires sales and marketing (or other investments), which ultimately eat at the bottom line. Or, in Netflix’s case, revenue growth and free cash flow are at odds. Conceptually, most investors know there is a cost to hyper growth, but in practice, it’s hard to see one of your portfolio companies miss those magical analyst estimates.
Despite monetizing through ads rather than subscriptions, Roku’s best role model for becoming a global media company is Netflix. What Netflix has done beautifully is ignore the pressures that comes with being a public company in favor of being a hyper growth company. This included taking on debt and other risks to gain ground. While I’m not suggesting Roku should take on the debt levels that Netflix has, it wouldn’t hurt for Roku to do whatever it takes to solidify itself as the leading global AVOD channel and ad platform this year.
Roku predicts that by 2024 roughly half of all U.S. TV households will have cut the cord or never had traditional pay TV.
Earlier this year, Roku began its expansion into emerging markets by entering Brazil. Strategically, Roku has partnered with the electronics company AOC to launch AOC Roku TV. The AOC TV/Roku platform will feature popular local content from Globoplay. With over 5,000 channels and over 1,000 free channels, Roku should do well in emerging markets. (I’ve also covered this in detail in a previous analysis.)
Furthermore, Roku has announced fifteen TV brands that come integrated with the Roku platform models. These models are available not only in the U.S., but also in the UK, Canada, and Mexico as of 2020. This kind of strategic partnership with TV models will help the company scale globally, which is a critical next step for Roku.
Roku recently stated that its commission revenue is expected to jump as viewing hours have increased due to COVID-19. However, it will still feel the shock of ad demand drying up.
Oppenheimer analyst Jason Helfstein cut the price target from $165 to $110. He forecasts Q2 ad platform growth to be around 18% YoY from the previous estimate of 62% growth. With that said, AVOD views are expected to grow 50% and streaming hours increase by 22%.
Needham forecast one or two more quarters of ad weakness, with ad growth uncertain in 2021. Analyst Laura Martin, who has a strong track record on this stock, said Roku may be able to withstand the storm with its unique model. “A key thing that differentiates Roku in this environment is that it doesn't set its ad-prices at auction,” Martin said in a Tuesday note. “It uses a direct sales force to set negotiated prices, just like traditional linear-TV. We believe that, even though ad-demand has been falling, Roku is still charging $30 + CPMs, and instead, is cutting the number of ads it runs per hour.”
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Any weakness in Roku’s price will likely be temporary, considering its financials and positioning. Although you could argue this is the case for many advertising companies, connected TV ads are in a growth trend while mobile is reaching saturation.
Unlike many ad-tech peers, Roku is well diversified. According to emarketer, Roku collects $1 million for letting a service like Disney+ take over the Roku home screen. Other companies like Netflix pay $1 for every Roku sold with a Netflix quick-launch button on them.
For every new market Roku expands into and every unit sold, these numbers will only increase with Roku’s brand and helps diversify the company from varying levels of ad demand.
The company released a preview of Q1 results on April 13, 2020 and reported revenue in the range of $307 to $317 million. This suggests growth of 51% YoY.
For Roku, it matches the same growth we saw in Q1 of 2019, which shows the continued demand in this growing space. Roku estimates 39.8 million active users as of March 31, 2020, which is a net increase of 3 million since December 31, 2019.
It estimates streaming hours of 13.2 billion, which is a 49% YoY increase.
Gross profits were in the range of $139 to $144 million, which suggests a growth of 40% YoY, while net losses were in the range of $60 - $55 million, compared to a net loss of $9.7 million for the same period last year.
As Roku scales internationally, profitable earnings are not expected within the next year. This is the part that Wall Street can often be uncomfortable with; however, it should be factored in that Roku’s revenue growth is solid. As stated above, it has little competition in the niche area of OTT it dominates with manageable debt.
Roku has moved in a clear uptrend off the March lows. It recently hit a wall of resistance, which includes a key level around $125-$120, the 200-Day SMA, as well as a downward sloping trend-line from its recent peaks.
With low participation at current prices, as exhibited in the volume, it will need to find more buyers to break through this region. The MACD shows weakening momentum on the daily chart and the RSI shows that its uptrend has broken, as well. We can expect a pullback in Roku in the coming days/weeks.
The key support level to watch is the $102-$86 region. If this zone is broken, we can expect a retest of the recent lows. However, if it holds, we expect new highs for Roku in the coming months.
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